What’s motivating the buy-side: Simply, simplifying

There has been a profound change in asset managers’ FX trading needs over the past several years, due to regulatory tightening coupled with significant changes in the way banks service their FX clients. New FX platforms have emerged, including CME Group’s own – EBS Institutional.

The surveys showed that consistently across the US, Europe, and Asia asset managers have been slower than expected to switch platforms due to operational and career risk, and sometimes business barriers from OMS (Order Management System) providers and other systems, especially in the post-trade arena.

However, what was also consistent is the need for a system which can simplify execution across their portfolio, which is paramount. Across all three locations, FX spot (~80%) and forwards (~70%) volumes are the highest, followed by swaps (~55%), PM directed trades (~40%), equity hedges (38%), and futures and overlay (26%). The buy-side actively wants and needs a system which solves for the diversity of their portfolios while simplifying operational execution.

Overall, this was by far the top priority from all firms that took part in the surveys across all locations. This is not surprising, as for asset managers the workflow is between the EMS and the OMS. This was most important for all firms, regardless of size, whether small (AUM under $10B) or large (AUM above $100B). If this integration is seamless then more attention can be directed towards other functions that will improve the way they execute and analyze trades. One of the key takeaways was that a lack of desire to disrupt workflow was one of the greatest prohibitors of platform innovation on the buy-side.

This was considered important but mainly for asset managers with AUM above $100B, which makes sense as they would have more opportunities to net positions and their infrastructure likely supports this more than smaller firms. For smaller managers, this was not considered as important.

Better access to liquidity was noted as a prominent way to improve how the buy-side trade – this was important to firms of all sizes across all locations but exactly how important varied from firm to firm based on their trading practice. Desks where FX serves a function of other securities such as hedging, or settlement found this specifically important.

This was considered more important than depth of liquidity for desks trading FX for alpha than for other functions.

This makes algo trading easier from a pre- and post-trade perspective and with the FX market shifting towards a highly electronic stance, firms find this important. There is more of a focus in Europe than anywhere else.

This was important but varied on firm size and location. European firms and smaller firms listed this as more of a priority than bigger firms, which is likely to due to smaller firms having more of a focus on cost. This was important but not critical.

This varied depending on the size of the manager, with it being most important to smaller firms. Cost also becomes a higher priority the more time is spent trading FX – so for higher volume participants this is understandably more important, especially with margins so tight, than for firms that do not spend as much time executing FX. However, selecting a platform that offers features they most desire, for example OMS integration was still more important to the buyside overall than price.

Also, for firms with AUM under $10B the ability to measure market impact was more important than netting, which are more likely PM led trading styles that focus on costs savings. Willingness to deal with ad-hoc requests was also only prevalent in large firms with over $100B of AUM and more in APAC than the US or Europe, and likely because they have the infrastructure to manage this.

Of those surveyed, around 45% of firms use one platform and 55% use multiple, and it is mainly larger firms that use multiple platforms. This decision is unique to the firm and depends on the internal infrastructure and procedures, and it was also noted that if one platform went down, it’s important to have access to trade on another.

Overall, the top requested enhancements were improved integration, execution flexibility, and better algos ‒ followed by more useful data, deeper liquidity, providing forward points, and netting. There was less consensus across the buy-side on improvements they wanted to see than their top priorities for selecting a platform. It depends on the firm’s size and how they are internally setup, but a desire to work directly with their provider to adapt a solution to their specific needs would be incredibly useful.

European traders largely echoed their North American counterparts, highlighting the same improvements to integration, quality of data for their TCA analysis and more useful outputs from that data as being essential to the next generation of platforms. Similarly, a debate ranges around the desire for “one-stop shops” compared to specialist systems for each part of the investment process. However, despite their perspective of the challenges that platforms are facing being the same, it seems that the European community is less forgiving of these shortcomings.

While the numerous demands for improvements APAC traders highlighted match the requests of their US- and Europe-based peers, the willingness to recommend a platform was closer to the American perspective than the European. A tougher regulatory environment in Europe and a subsequent necessity for quicker improvements in platforms functionality to keep up could explain this, as could cultural reasons.

A selection criterion that made the top five in APAC but not in European or American surveys is a platform’s ability to deal with ad-hoc requests. Also, in Asia, NDF trades make up 50% of the volume and TCA was also more important for EM currencies in APAC, which covers most Asian currency pairs. Multi-asset execution on the same platform and wider scope of products for trading are a demand from the buy-side in Asia.

The ideal scenario is that platform providers can offer a solution that supports the entire workflow from order generation via order management, execution by the trader to office tracking, and reporting. It is also crucial to include a strong reference pricing tool in order to have a neutral market price when executing. However, some larger firms execute multiple asset classes on the same platform so employing a system purely for FX would likely be too difficult – so there could be potential for improving multi-asset integration.

Better TCA with more data granularity and pre-trade analytics was also requested. The buy-side feel as if they are not getting access to the TCA tools they require from their platforms, identifying an area of focus for future enhancements.

As TCA has become more widely adopted, its users have come to realize that the only truly effective TCA uses the price data they capture from their liquidity providers, as this enables actionable forensic analysis of the actual market available to the user.

The effective use of TCA in FX is still evolving and what seems to be developing is an understanding that two forms of TCA are required. One is needed for client reporting and compliance and a second one is necessary for monitoring and improvement of execution performance at the individual asset class desk level. This is the new imperative that buy-side FX traders see as a high priority. Until recently, most TCA was purely a post-trade reporting requirement and was either not available or not used in real-time.

The most prevalent requests for improvement from platform providers are for more value-add TCA and better integration, which again comes back to the desire for a streamlined process.

Most asset managers do not have prime brokers and therefore still have liquidity and credit tied together in their trading process. This limits their access to non-bank liquidity and primary and secondary market venues.

Asset managers are still in the process of reacting to the dramatic shift in the way liquidity is provided by banks since the financial crisis and the introduction of new regulation. Pre-crisis, most banks sought the kind of large ticket risk-transfer trading business that asset managers generate. Today, most banks have shifted the management of their FX risk trading from traders to machines, and there are very few banks prepared to take these large risk positions. This has forced a massive change on asset managers as they now must manage FX risk themselves and need the tools and technology to carry out that task. In the interim period, many have used algos from banks to manage this risk, but increasingly are adopting new EMS technology to internalize these processes and reduce execution costs.

The main takeaway from these reports points to the need to go beyond offering deep liquidity and an easy to integrate system. Platform providers need to work on a one-to-one basis with their clients and be able to create a flexible, consultative service.

If you would like to understand how EBS Institutional can help to solve these challenges – please contact our team at ebsinstitutional@cmegroup.com for a platform demo.